An insurance solution to make retirement incomes last
July 11, 2018, 21:02 CEST
Life expectancy is increasing worldwide, meaning many people risk outliving their retirement savings and potentially slipping into poverty. A new study suggests the insurance industry can be part of the solution.
A key element of the solution is the annuitization* of occupational pension assets, according to the study published by The Geneva Association, an international insurance industry think tank.
There are three main forms, or pillars, of retirement savings schemes. Government-provided schemes (known as Pillar I); company or occupational schemes (Pillar II), and personal savings with tax-deferred benefits (Pillar III).
The Geneva Association's report says that increased life expectancy, low fertility rates and low interest rates are putting "extreme pressure" on Pillar I plans. This is leading to a reduction of benefits for people going into retirement. As a result, they must increasingly deal with complex decisions about their Pillar II plans.
Anna Maria D'Hulster, Secretary General of The Geneva Association, says: "Starting to save earlier, at a higher rate, and increasing contributions over time helps to secure a large enough Pillar II pension to fund retirement. Purchasing a lifetime annuity with all or part of the retiree's Pillar II can help to ensure that an individual will not outlive his or her retirement funds."
The Aegon publication, produced by the Aegon Center for Longevity and Retirement (ACLR), also stresses the importance of educating the public to strategically manage savings leading up to and during retirement. "Governments, employers and others should increase awareness of, and encourage individuals to take advantage of, opportunities to have a portion of their retirement savings distributed in the form of guaranteed income, such as an annuity."
Pillar II in 3 countries
The Geneva Association report focuses on the Pillar II programs for the US, UK and Switzerland, three countries with different approaches to the longevity challenge.
The US system has been transferring retirement risk from employers to employees, while the UK has provided more freedom for retirees and put more pressure on the government.
There are varying views on whether or not the newly enacted pension freedoms will be positive for UK participants, the according to the Geneva Association report. Some people feel that these new freedoms will encourage more people to save. However, people who did not want to 'tie up' money in annuities may be reluctant to contribute additional monies into a pension scheme with mandated annuitization.
Steven Cameron, Public Affairs Director at Aegon, who contributed to the report, said, "Our research findings offer some positive signs that some people are taking more interest and are saving more into pensions now that they have the freedoms to 'look forward to' from age 55."
The Swiss system has features that cause the average Swiss employee to save more for retirement than his or her counterpart in the US or UK. The Swiss Pillar II retirement system makes full use of 'Nudge Theory', first described by Nobel Prize-winning behavioral economist Richard Thaler.
The Swiss system has automatic enrolment into the plan, automatic escalation of benefits with age and duration of employment, and automatic annuitisation into a lifetime annuity, the Geneva Association says.
The report recommends that the default options for Pillar II programs should, therefore, be based on three principles:
automatic enrolment into an occupational pension plan
automatic escalation of contributions with age and duration of employment
some level of mandatory annuitization
Ronald Klein, Director Global Ageing at The Geneva Association and author of the report, comments: "It is difficult to construct one system of occupational pensions that would be fit for purpose in every country. However, it is beneficial to all parties to require that at least some of Pillar II savings are annuitized so that retirees ensure they live above the poverty line."
* An annuity is a form of financial contract mostly sold by life insurance companies that guarantees a fixed or variable payment of income benefit (monthly, quarterly, half-yearly, or yearly) for the life of a person or for a specified period of time.